Specialist annuity providers are set to launch advised-only hybrid drawdown products, but experts warn they may struggle to reach their target markets.
Since the 2014 Budget firms reliant on annuities have seen sales crash and profitability plummet.
Figures published by the FCA in September showed out of around 200,000 people who accessed their pensions in the first three months of the freedoms, just 6 per cent bought an annuity.
This compares to 35 per cent who entered some form of drawdown contract.
Annuity specialists Partnership, Just Retirement and Retirement Advantage have all announced they will be offering a blend of annuities and drawdown within a single package.
But other providers say blends “do not work” and customers who buy packages will suffer from a lack of choice.
Experts add the firms may be forced to buy up advice businesses or go direct to sell in large quantities.
Prior to the introduction of the pension freedoms, few people with pots worth less than £100,000 were seen as suitable for drawdown.
But customer demand for flexibility – and a distrust of annuities – has pushed providers to design products for smaller pot sizes.
Retirement Advantage will accept pots over £20,000, while Partnership and Just Retirement have a minimum investment of just £10,000.
Retirement Advantage pensions technical director Andrew Tully says: “If you have £500,000 it’s probably quite easy to go out to the market and spend time researching the best annuity and drawdown deals separately.
“But it’s a lot more difficult if you have just £80,000. So it’s simpler for the adviser and the customer to have everything in one place.”
Partnership head of product development Mark Stopard says: “For a long time it’s been recognised a blended solution works well for a lot of customers. It gives a grounding of security but also flexibility.
“It’s a strategy that’s been in the IFA’s kitbag for a long time. But we’re targeting the middle market customers where it’s really about retirement income, not the really high net worth or inheritance tax planning type of client.
“The issue we’re trying to solve is how can we make it as simple and cost effective as possible? In the past it’s been complicated to explain to the end client and it’s not been that easy to manage.”
All three providers say they are committed to selling through advisers but experts say the lack of mass-market advice will force them to take greater control of distribution.
Retirement Intelligence director Billy Burrows says: “These firms are designing products that typically will be helping people with £50,000 or £75,000. This is exactly the same market that advisers are struggling to service.
“There is obviously a pinch point where you have companies designing products customers need but that will only be distributed through advisers. So how are they going to solve this so-called advice gap?
“There are only two ways – help advisers deliver advice more efficiently or insurers themselves finding a way of delivering advice.”
The Lang Cat principal Mark Polson says packaged solutions could be used by advisers looking for a “commodity solution” for lower value clients who might also be suited to “robo-style services”.
He adds “the next logical step” is selling direct to consumers but specialist insurers are unlikely to enter the market themselves.
“The work involved in going direct is enormous, there are many examples of providers starting and then very quietly stopping because nobody buys the product.
“It’s more likely they would partner up with people who already have direct businesses and well known and persuasive brands.”
When two become one
The firms offering blended solutions say having one product brings down the cost of securing a guaranteed income as well as drawdown.
Stopard says: “It very much comes down to the type of client. It’s easier to explain a single product to a client, rather than two, and the customer can see what’s going on via the platform. For this part of the market it allows us to provide a very cost effective solution.
“If the client has £600,000 I’d agree having two separate products might be better, because they have a lot more scope to be much more creative in both elements.”
In addition, says Tully, Retirement Advantage’s product is designed to allow advisers to “dial up and down” the mixture of guaranteed and flexible income. This would not be possible if the two products were separate, he says.
Retirement Advantage and Partnership’s products, due to launch within weeks, allow the annuity element to pay income into the drawdown pot before tax is paid.
Tully says this gives advisers a “unique tax planning ability”.
He says: “People can put as much money into the annuity bit as they want and as much into the drawdown bit as they want. They can stop and start income at any time. The annuity produces an income, the customer can say they don’t want it now and it builds up in the drawdown. So the annuity becomes an investment vehicle.”
But others say packages are not the answer.
Aviva head of financial research John Lawson says: “We did a huge amount of research last year and our conclusion was trying to blend things together in one product was never going to work because different customers need different mixes of the two.
“The optimum solution, if you have enough money, is to do drawdown in the early years and an annuity in the later years when annuity cross-subsidy kicks in. Our view was that we have everything we need; all the building blocks are there.
“It’s advisers’ job to put those components together. These packaged products belong in the days when we had sales forces. With the advent of open architecture in the early 2000s, the idea of getting everything in one package from one provider seems a bit silly now.”
LV= does not offer a packaged product, but allows customers to blend products through its Retirement Account.
Head of distribution Steve Lewis says: “We can replicate what they’ve got. But we can also add fixed-term annuities, flexible guaranteed smoothed funds, we can diversify further to use passive or active ranges of funds.
“Hybrid should not mean you are locked into a limited choice of funds or solutions.”
LV= customers can use external annuity providers or investments through the Retirement Account.
Lewis says: “There is a 0.25 per cent charge on the wrapper but where a customer uses one our own annuities we discount that charge. However, if it’s an investment fund, regardless of who provides it, we do levy the wrapper charge as well as the fund charge.”
Andrew Day, principal director, Depledge Strategic Wealth
The more products in the market place the better; the trick is getting the right solution. It’s an evolving market and there are a place for these products. But the one weapon any investor has is diversification, and do you really want to get locked into a contract over three decades? These providers want to sell to the mass market, but I’m not sure how successful they’ll be. Going into drawdown with less than £200,000 is problematic – many will not have taken advice before and are not keen on fees, but providers naturally see this area as an opportunity.
Alan Solomons, director, Alpha Investments
From a provider’s perspective these products are a very good idea and are interesting for an adviser. It would be interesting to see how they compare to getting the component parts yourself. The underlying funds seem to be passive and while most active funds are not value for money, there are active managers out there with long track records of good performance. Ideally, I’d like to have the freedom and choice to choose the investments. More often than not I’ve found that when you get extra flexibilities there’s a price attached so that will have to be taken into account. It’s a challenge now for software houses to find a new way to compare all these different products being developed.
There are many reasons why I think someone can obtain a better outcome with a combination compared to a single solution and these include: meeting the twin goals of certainty and flexibility, reducing the overall exposure to risk, and potentially maximising income over the longer term.
Companies such as Partnership and Retirement Advantage are soon to launch policies that provide both annuity and drawdown style income within a single policy. Firms like LV= have invested a lot of time and resources in helping advisers with the blended solution approach.
So what does the future hold for the combination model? I think there are three main challenges: increasing overall awareness of the benefits of not putting all of a client’s retirement income eggs in one basket, more product development, and increased access to advice.
Advisers need two complementary but separate skills. The skill to explain the options and benefits should be second nature but the skills to analyse the potential outcomes in a more technical way may be lacking.
Product development will need to concentrate on producing cost effective solutions that are easy to understand and administer. However, attention will have to be given to the value that these plan offer as there will be challenge from some advisers who may argue that the best open market option annuity and best drawdown in the market is better than a single plan. The new plans should win because it is not cost effective for smaller funds to buy separate annuities and drawdown policies.
Finally, one of the biggest challenges could be access to advice.
Combination plans should not be sold without advice and it is easy to see why. If it is right that a client has a combination then someone has to decide what that combination should be and this requires good advice. However, these combination plans are aimed at those with modest sized pension funds because those with larger funds can arrange separate annuity and drawdown polices.
If the advice gap continues to be an issue who will advise those clients who should benefit from a hybrid plan?
Billy Burrows is director at Retirement Intelligence